NEWS PROVIDED BY DHJJ

Charity Deductions

A recent court case illustrates the drastic (and sometimes unfair) result that can occur if the substantiation rules are not strictly followed.

Consider the case of Daniel Gomez, et ux v. Commissioner, TC Summary Opinion 2008-93 involving the situation where the taxpayers contributed approximately $6,500 to their church in 20 separate checks during tax year 2005. At least 10 of the checks were for more than $250 each. Upon audit, the IRS disallowed all but $421 of the deduction because the taxpayers failed to obtain a timely receipt from their church to support the donations. Such receipt (or receipts) must be received by the time you file your return for the year of the donation (or, if earlier, by when the return is due). In addition, it must list any significant goods or services received in return for the donation (other than intangible religious benefits) or specifically state that the donor received no goods or services from the charity. In the case of Daniel Gomez, the taxpayers waited until their charitable deduction was challenged before trying to get a proper receipt. By then, of course, it was too late. You ask why did the IRS only allow a few hundred dollars of the claimed deductions? The requirement to obtain a receipt only applies where a single donation (or a group of related ones) totals $250 or more. Eight of the taxpayers’ donations during the year were for less than $250. Thus, their cancelled checks were sufficient support for the deduction.

Given this court case and also considering recently released proposed regulations providing guidance to taxpayers, I thought this would be a good time to revisit the rules for making charity contributions.

The rules regarding charitable contributions were changed under the Pension Protection Act of 2006 (P.L. 109-280) in response to perceived abuse. The rules now require that each and every cash gift must be substantiated by a bank record or receipt and further provide that no deduction will be allowed for clothing and household items that are in less than good condition. We all know of situations where taxpayers have over-estimated their cash and non-cash contributions or otherwise pushed the bounds of reasonableness. Given that IRS audit rates are up and increasing further, it would be wise to discuss this with your clients. Anticipate lots of correspondence audits.

Cash Contributions

Effective for contributions made in tax years beginning after 2006, no deduction will be allowed for any contribution of cash, check or other monetary gift unless the donor can produce a bank record, credit card receipt, wire transfer receipt, or a written communication from the charity indicating the amount of the contribution, the date the contribution was made and the name of the charity. Stated differently, no bank record or no receipt means no deduction. Self-created records, such as a log book of donations, no longer suffice. Neither does it matter if the cash donation is $1, $250, or $1,000. To be deductible, the cash donation must be substantiated by a bank record, etc., or written communication from the charity. While substantiation is not a new requirement, the rule was that no deduction was allowed for a charitable contribution of $250 or more unless the gift was acknowledged by the charity in writing. Although taxpayers were not required to secure acknowledgments for gifts below $250, they were required to keep records. Under the new rules, you simply must have a bank record or receipt. In other words, putting $20 in the offering plate each week at church is not deductible.

Clothing and Household Items

Just like the rules for cash gifts, the rules for deducting donations of clothing and household items have also been tightened. Unlike the changes to cash contributions, property contributions are under the scope right now. Effective for all gifts of clothing and household items made after the date of enactment (08/17/2006), no deduction is allowed for used clothing unless the clothing is in at least "good condition". The amount of the charitable contribution continues to be based on the fair market value of the clothing or household item.

The new law does not define the term "good condition." Good condition can, and often does, vary from person to person. Guidelines are...

• Clothing must be cleaned, pressed and seasonal.
• Furniture, pots and pans, dinnerware, sheets and blankets, home furnishings, electronics, appliances, and similar items cannot be broken or in disrepair.
• Food, paintings, antiques, objects of art, jewelry, gems, and collectibles are not household items.
• The Joint Committee on Taxation report provides that the IRS is authorized to deny a deduction for any contribution of clothing or household item that has minimal monetary value, such as used socks and used undergarments. It is expected that the IRS will exercise the authority to allow disallow a deduction for some items of low value.
• Make sure to show the condition of the gift as good or excellent (but not fair or poor) on Form 8283 Noncash Charitable Contributions.

The new law does not change the substantiation requirements for gifts of clothing and household items. Donors must still obtain a receipt from the charity, showing the name of the charitable organization, the date and location of the gift and a detailed description of the property contributed. If the taxpayer cannot obtain a receipt, the donor must maintain reliable written information about the contribution. Gifts of $250 or more must be substantiated by a contemporaneous written acknowledgment from the charity containing a description of the contribution, whether the donor received any goods or services in consideration for the contribution and a good faith estimate of the value of any goods or services. If the claimed deduction exceeds $500, taxpayers must still file Form 8283 with their return. Special rules apply for deductions of $5,000 or more, which principally, is to obtain a competent appraisal and attach to the return.

• I suggest having the taxpayer lay out all of the items that will be given away to the charity in plain view and take photos of the items so as show what was given to charity and that the condition was good. As the saying goes, a picture is worth a thousand words.
• Determine realistic FMV's by use of readily available software (“Its Deductible”) or by use of readily available thrift shop general value guidelines.

For taxpayers who incur unreimbursed out-of-pocket expenses while performing charitable work - the IRS has indicated they plan to adopt the common sense rule that if the out-of-pocket expenses for a charitable activity or event are less than $250, the donor can document the expenses simply by keeping appropriate purchase receipts, mileage log, or other reasonable written evidence.

Be ready for the IRS to challenge in this area.

Scott A. Singer, CPA
Principal